WTO chief Pascal Lamy: World must change the way it measures trade flows

It is economic nonsense to continue to calculate bilateral trade balances – like those between the US and China – the way we do today. What we need to monitor is the effective added value in each country, not the overall value of goods and services imported and exported.

Global Viewpoint

Editor's note: This is the first of two articles based on Pascal Lamy's recent talk to the Paris-based Notre Europe think tank, of which Mr. Lamy is the honorary president. Tomorrow: Which policies must Europe follow to prosper in a new global economic landscape? 

The global economy has undergone two major changes in the past 20 years. Those changes are going to continue and, in all likelihood, speed up over the coming decade.

The first change involves a radical upheaval linked to the growing power of the emerging countries with very large populations, or “economic masses.” There is no other instance in the entire history of mankind of such massive economic development, which some describe as the “big swing,” concentrated in so short a space of time.

China’s output today accounts for over 8 percent of the world’s economy (in current dollars) compared with less than 2 percent only 30 years ago. This increase is already having considerable economic, political, and media repercussions, but 20 years from now China is likely going to be worth 20 percent of the global economy.

The place that China occupies in this picture is of necessity unique because it is the largest and most important of the rapidly developing economic masses. India accounts for 3 percent of the global economy today and should account for only 5 percent 20 years from now. Africa accounts for 2 percent of the global economy today, while Latin America accounts for 4 percent to 5 percent. In 20 years’ time, Africa should account for 3 percent of the global economy and Latin America’s share should remain stable. Thus, while these other economic masses are also shifting, they are not doing so to as great an extent as China will.

The downswing in the West’s economic power is the logical offset to the increasing economic weight carried by the emerging countries. If the trend observed over the past two decades continues, the weight Europe carries in the global economy is going to drop from 35 percent to 25 percent by 2030, and the weight carried by North America (the United States and Canada) is going to drop from 30 percent to 28 percent.

The fact that North America is likely to hold out better is due mainly to a more favorable demographic situation than in Europe. This swing in relative weights is destined to continue, or even to speed up in China’s case, while heightening the kind of turbulence we are already experiencing today in the advanced economies.

The second major transformation that the world’s economy has experienced in the past two decades is a deep change in the nature of the international division of labor, particularly in terms of stronger specialization in the manufacturing apparatus of the various countries. This specialization movement is rooted in the technological changes that have made the world a smaller place.

International trade has traditionally been restricted by the costs entailed by distance, particularly in connection with transportation and communications. That has led to a “preference for proximity,” which translates into a country choosing to trade first and foremost with its neighbors. The inventions of the container ship and of the Internet have considerably reduced the obstacle of distance in the space of a mere few decades.

Thanks to the container, the cost of transporting a ton of goods by sea has been slashed by 50 times in the space of a few years, while the Internet revolution has had an impact of the same magnitude in the sphere of communications. The power of today’s computer tools combined with the possibility of real-time communication with the whole world has made it possible to set up logistics chains on a global scale spread out over different countries.

These logistics chains, comprising a large number of distinct operations, would never have seen the light of day without a series of tools making it possible to handle complexity while at the same time regulating, monitoring, and remote-managing the work of all the suppliers and partners involved.

Fully 60 percent of Asian countries’ international trade is concentrated in the Asian zone itself, the area which has witnessed the most in-depth integration of its production chains, with the manufacture of parts and semi-assembled units that are then mixed with components, which themselves comprise elements from different countries, and the whole then ends up in China for assembly before being exported elsewhere.

The underlying phenomenon, a process of fragmentation among different countries and types of labor, is effectively illustrated by the production chain of certain emblematic products such as the iPad, a part of which is assembled in Chengdu, in western China. Over 100,000 people work in a factory that only “manufactures” one part, namely the iPad’s aluminum casing. The rest of the factory’s activity consists of alternating assembly operations with technical testing.

Logistics circuits are enormously complex, and it takes eight hours to assemble the components of an iPad on account of the large number of quality controls required. The Chinese added value generated by this factory accounts for 5 percent of the iPad’s purchase price, while the American added value of the same iPad, assembled in China and exported to the United States, is over 20 times higher.

Global manufacturing chains are constantly changing, in an ongoing movement involving the allocation and reallocation of labor and capital in response to the opportunities that businesses perceive, to a changing regulatory environment, and to changes in trade barriers. The execution of these tasks, once performed in a given country by a given company and based on the use of an extensive labor force, can now be brutally shifted to another country and another company with different means of production.

It is no longer a matter of trading in goods and services but of “trading in tasks” that enter the production process of an end-product or service. This underlying transformation has numerous and very obvious consequences because it rests on industrial location, transfer, and relocation, which give businesses the leverage they need to improve their efficiency.

To understand where the efficiency in this new configuration of international trade comes from, we have only to refer to a simplified Ricardo-Schumpeter model. From David Ricardo we take the increased manufacturing efficiency that he argues is to be gained from an increasing international division of labor, while from Joseph Schumpeter we take his theory based on the uninterrupted cycle of the destruction and creation of manufacturing systems, the least efficient making way for the more productive, which then employ the labor and capital thus freed up.

This movement is speeding up at the global level, and it is triggering an increase in growth and employment at an international level. But the division of employment and the changes affecting it are by no means uniform. Social and economic fabrics cannot develop at the same pace, and they take considerable time to adapt to the changes to which they are subjected.

Hence the deindustrialization process that is hitting certain traditional labor pools, triggering dramatic social shocks in certain regions. Hence also the painful social insecurity in job markets in developed countries where the previous model had been stable for a long time

In this new configuration of international trade, commercial issues broadly transcend the mere issue of trade imbalances. And in any case, bilateral trade imbalances are becoming meaningless when China’s exports to the United States contain almost 50 percent of Chinese added value while US exports to China contain 80 percent to 90 percent of American added value. It is economic nonsense to continue to calculate bilateral trade balances the way we do today. What we need to monitor is the effective added value in each country, not the overall value of goods and services imported and exported.

Naturally, China is in a surplus situation and the US is in deficit. That is a macro-economic problem whose causes are well-known: excessive consumer restraint in the former case and insufficient savings in the latter. Yet politicians focus on the two countries’ bilateral trade relations, which makes very little sense these days as we can see from the example of the manufacture of iPads.

That is why we have to stop measuring international trade flows using a gauge that increases a product’s overall value each time that product crosses a border. We need to calculate trade in the same way as we calculate gross domestic product (GDP), in other words by adding together the value-added flows. An approach of this kind would also allow us to conduct a meaningful analysis of the impact of trade on employment, the most crucial policy issue in today’s world.

Pascal Lamy is the director general of the World Trade Organization.

© 2012 Global Viewpoint Network/Tribune Media Services. Hosted online by The Christian Science Monitor.